Oil is exchanging one supply glut for another

Glut to Glut

This week the main reason why crude oil moved up and down was the continuing saga surrounding the Seaway pipeline. The historic reversal of this pipeline was perhaps the most important reversal of liquid since they changed the direction of the Chicago River and was seen as a major step forward in taking advantage of the new boom in US oil and Canadian sands production and alleviating the record glut at the storage terminals in Cushing, Okla.

Cushing, Okla. is the delivery point or the NYMEX futures contract and the area is rich in the history of the global oil market. In the early 1900’s, rail lines were built to Cushing and it became a major hub for oil when oil was discovered on the border of Cushing and Drumright, Oklahoma and Cushing became a major early refining center, shipping products to the Midwest by rail. Even as oil production in the area started to decline, the storage facilities and pipeline that were built made Cushing the perfect place to become what was known as the “Pipeline Crossroads of the World.” Pipelines were built so oil connected the Gulf Coast with northern refiners to feed the oil hungry Midwest and North.

Yet now because of the boom in North American production and the reduction of refining capacity, oil kept piling up. Oil supply into Cushing, instead of moving in one direction, was getting hit from both sides.

Now oil was piling up to record storage levels and the price of WTI, which historically traded at a premium to the Brent crude, became disconnected from the global price. There are fears of a never ending glut that may mean that we might not be able to take full advantage of our growing production prowess.

Enter Seaway Pipeline! Enterprise Products Partners decided to rise to the occasion and take the historic step of reversing the flow of the pipeline. Recently they increased runs up to 400,000 barrels per day which brought in the Brent/WTI spread by more than $6. The market expected that this would ease the glut in Cushing and judging by the Energy Information Agency report, it showed a decline by 500,000 barrels last week after seven-straight weeks of gains.

But word of a problem sent oil down big two days ago causing the largest one day drop in over a month. Yet oil came back when Reuters reported that the 400,000 barrel per day Seaway oil pipeline, which connects Cushing, Oklahoma, to the Texas coast, should be able to resume flowing at normal capacity within a week once a problem with a connecting pipeline at Jones Creek, Texas, is resolved. Seaway operator Enterprise Products Partners LP was forced to issue a curtailment order to shippers on Wednesday, restricting deliveries at Jones Creek to 175,000 barrels per day, due to high inventories.

Yet the problem is raising a bigger issue with some. Is it possible that even the Gulf coast does not have the infrastructure and storage to handle our new oil boom? Dow Jones interviewed Enterprise spokesman Rick Rainey, who wanted to clarify that the reduction was not because of technical problems with Seaway, or with the terminal, but because customers were not taking enough oil out of the terminal.

This may signal larger concerns, that instead of alleviating the glut at Cushing, we may just be exchanging one glut for another. Are we producing oil faster than the demand or the logistics and storage will allow? This pessimistic view is being put out by some that expect that's so but the storage issue will keep occurring. The WTI spread will blow out even more in the long term: Too much crude, not enough storage . Bentek Energy says that non-Canadian foreign crude only makes up 6% of our supply by 2018 vs. the 43% we are at right now.

The answer may be to allow wide spread export of U.S. oil. Of course with a President talking global climate change that may be a big problem. Back during the Arab oil embargo, the U.S. passed a law that banned all oil exports except for a few specific instances and President Reagan did allow exports to Canada. This president does have the authority to allow exports to other counties.

Yet in the short term the market is relived but for the oil market, we may have to prepare from trading one oil glut for another.

About the Author

Senior energy analyst at The PRICE Futures Group and a Fox Business Network contributor. He is one of the world's leading market analysts, providing individual investors, professional traders, and institutions with up-to-the-minute investment and risk management insight into global petroleum, gasoline, and energy markets. His precise and timely forecasts have come to be in great demand by industry and media worldwide and his impressive career goes back almost three decades, gaining attention with his market calls and energetic personality as writer of The Energy Report. You can contact Phil by phone at (888) 264-5665 or by email at pflynn@pricegroup.com. Learn even more on our website at www.pricegroup.com.

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